At a lunchtime meeting on 22 June, Gene Grossman presented results of recent research on the environmental effects of trade liberalization and economic growth, focusing in particular on expected patterns of trade between Mexico and the US. Grossman is Professor of Economics at Princeton University and a Research Fellow in CEPR's International Trade programme. Grossman first noted environmentalists' three main concerns over trade liberalization: it encourages growth in developing countries with poor records of pollution control, migration of `dirty' industries to countries with lax environmental regulations, and relaxation of tight standards by those countries that have them in face of increased competition. These concerns are of particular relevance to the integration of Eastern Europe into world trade. Such environmental damage may take effect through changes in the scale of economic activity, changes in its composition (if pollution-generating industries show strong growth), or changes in production techniques (which may arise from government policies or increased competition). On the other hand, closer trade links may induce the transfer of cleaner techniques to developing countries, while trade liberalization that spurs growth could stimulate their demand for a cleaner environment. Finally, liberalization encourages countries to specialize in goods in which they have a comparative advantage; this may prove environmentally beneficial if developed countries concentrate on capital-intensive goods while developing countries concentrate on labour-intensive goods.

Grossman first considered the effects of scale and technique of production, reporting the results of using cross-country data on sulphur dioxide and suspended particles to investigate the relationship between economic growth and air quality. This revealed an `inverted-U' relationship between levels of real per capita GDP and pollution for fine suspended particulates; growth initially increases such pollution, but beyond a turning-point at a per capita GDP of $5,000 liberalization yields an environmental dividend; Mexico is just at this point. For coarser suspended particles, the relationship is strictly downward sloping. A similar exercise for water pollution indicated that levels of heavy metal tend to level off at about $8,000 per capita, while both lead and cadmium show steady improvements as income increases. Different pollutants have different relationships with income, and hence with liberalization and growth, but turning-points tend to come earlier for those posing the most immediate health hazards to the local population.

Grossman also considered the compositional effect, reporting predictions of which Mexican industries are likely to benefit from the implementation of the North America Free Trade Agreement (NAFTA) through increased exports to the US. The environmentalists' predictions that US industries that conform to expensive pollution abatement laws or costly labour laws and those with high tariff rates should all import heavily are partially borne out by the data, although the pollution abatement variable is statistically insignificant and quantitatively very small.

The relative requirements for human and physical capital in production are far more important; on average, wages constitute 40% of costs in manufacturing, while pollution abatement accounts for only 1.5%, and the difference in wage rates between Mexico and the US is in any case bound to dominate any differences in their environmental standards in determining the trade pattern. Grossman also cited the results of computable general equilibrium models which indicate that the output of Mexico's public utilities including the high-pollution energy-generating sector will fall, so air pollution should fall likewise, while its agricultural and labour-intensive manufacturing sectors will expand. There is an offsetting negative effect in the US, but it uses more environmentally-friendly production techniques, so a net improvement to the environment should result.